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An association of accountants is urging the federal tax agency to update its guidance for cannabis businesses in light of the potential for rescheduling.
The American Institute of Certified Public Accountants sent a letter to the Internal Revenue Service and the Department of the Treasury on Monday, urging them to update their guidance for cannabis businesses.
This request comes as cannabis may soon be rescheduled to Schedule III of the Controlled Substances Act, which would allow these businesses to operate without the restrictions imposed by section 280E.
The Department of Justice decided in May to propose rescheduling cannabis from a Schedule I controlled substance to Schedule III, which would have changed its treatment under Section 280E of the Internal Revenue Code. The IRS, however, noted on June 28 that cannabis is still a Schedule I substance. Hence, Section 280E can still apply to cannabis businesses.
Section 280E of the IRC states that no business expense deductions are allowed on federal taxes for businesses selling an “illegal substance,” such as those listed in Schedule I. As cannabis is still included in this category, businesses can only deduct the cost of goods sold from their gross income, normally leaving them with a higher taxable income and more significant tax liability than is often the case for businesses that can deduct typical business expenses. Thus, Section 280E puts cannabis businesses at an enormous financial disadvantage, further reducing the chances of profitability.
AICPA’s Recommendations For A Smooth Transition
For this reason, the AICPA recommends a number of important steps that would go toward streamlining the tax compliance environment for cannabis businesses during the period when cannabis will be reclassified.
To help smooth that transition, the AICPA recommends that the Treasury and IRS allow cannabis businesses to deduct their expenses for the full year in which the rescheduling occurs. The IRS could avoid onerous mid-year accounting adjustments if the rescheduling were prospective while minimizing complexity and compliance burdens and promoting consistent, equitable tax treatment.
For example, the letter gives the hypothetical of a cannabis business that has incurred $200,000 in non-deductible expenses during the first three quarters of 2024, before cannabis was rescheduled. For example, if cannabis were rescheduled to Schedule III on October 1 of a given year, this would introduce an additional $100,000 of expenses in the fourth quarter that would otherwise be deductible. AICPA is suggesting that all $300,000 be allowed as a deduction for the tax year, which would go a long way in simplifying the accounting complications at mid-year and reducing the risk of compliance issues.
Furthermore, the AICPA believes guidance is needed regarding the treatment of expenses that were non-deductible in previous periods. Due to the rescheduling, cannabis companies will encounter new opportunities for deductions and credits that demand flexible guidelines their accounting can readily update. The Institute also believes tax treatment should be consistent across all cannabis companies, be they product providers to the recreational versus medical markets, to ease burdens and promote fairness.
Finally, a voluntary disclosure program for those cannabis businesses that may have misinterpreted the Section 280E limitations in the past should be promulgated to allow them to reconcile past tax positions under new guidance in a non-punitive manner. This would help ensure transparency and compliance in a changing regulatory environment.
Such recommendations are necessary for the ease of transition regarding cannabis businesses, uniformity, and granting fair and clear tax policies as the legal environment around cannabis changes, according to the AICPA.
If cannabis becomes rescheduled to Schedule III, cannabis businesses will then be allowed to deduct expenses, but the transition could be complicated and cause confusion without clear guidance.
On top of that, the recent U.S. Supreme Court decision to overturn the Chevron doctrine determines that federal agencies no longer have to defer to their interpretations of ambiguous laws when Congress has not provided specific guidance. This change could affect how agencies like the IRS apply Section 280E to cannabis businesses, as noted in an article in Green Market Report. If the Court significantly limits or eliminates Chevron’s deference, it would reduce the IRS’s flexibility in interpreting tax statutes that contain ambiguous language, shifting some power back to the courts and Congress.
Path To Cannabis Rescheduling
U.S. President Joe Biden initiated the administrative process to reschedule cannabis in 2022 by directing HHS and the Department of Justice to review its rescheduling. Following that directive, HHS recommended rescheduling cannabis to Schedule III, which classifies drugs with accepted medical uses and lower abuse potential.
That recommendation now goes to the DEA, which has the final authority to act upon it and may well reclassify cannabis as a Schedule III drug.
If adopted, this change in classification would go a long way toward remaking federal policy by easing the tax restrictions under Section 280E for businesses operating in cannabis, thus being able to deduct ordinary business expenses like other legal businesses.
“}]] An association of accountants is urging the federal tax agency to update its guidance for cannabis businesses in light of the potential for rescheduling. Read More